How to save for a down payment
Whether you're in need of a first-time home buyers guide or have ample experience in the real estate market, saving for a down payment can be a challenge. Here are seven steps you can take to ensure you have the necessary funds to purchase your home.
Step 1: Set your savings goal
You can't start saving for a mortgage down payment until you know how much money you'll actually need to put down on a home. Many different factors affect that including:
- The purchase price: If you buy a property that costs more, you'll need a larger down payment since the amount you must put down is usually calculated as a percentage of your loan value. For example, if you buy a $100,000 home and put 20% down, you would need a $20,000 down payment, but if you buy a $200,000 home and put 20% down, you would need $40,000. Check out homes in your area on one of the best real estate apps to see ballpark prices for the type of home you want.
- Lender requirements: Lender rules for minimum down payments differ, but some lenders allow you to put down as little as 0% to 3%, but paying at least 20% can benefit you with an overall lower cost of ownership by minimizing interest and mortgage insurance. The best lenders for first-time home buyers are often more willing to accept a lower down payment.
- Mortgage insurance: Mortgage insurance protects the lender from losses in foreclosure if you put down a small down payment, but you must pay for it and it adds to your monthly costs. Our mortgage insurance guide explains more about how this insurance works.
- When you plan to purchase your home: Your timeline for buying will allow you to calculate the necessary amount to save each month.
Step 2: Include closing costs in your calculations
You need to save not only for a down payment, but also for any closing costs your lender might charge. These must be paid upfront when you close on your loan. They can add up to 2% to 5% of your home's value.
Some mortgage lenders allow you to roll closing costs into your loan. But this means you're borrowing even more money. As a result, it can be harder to get approved for a mortgage if you choose to roll closing costs into your loan. This can also make your closing costs more expensive over time, since you'll pay interest on them.
Step 3: Determine what account should hold your down payment
It takes time to save up for a down payment. To meet your savings goal, you need to keep the money in a safe place until you're ready to buy. You don't want to risk investing in the stock market and losing the money. This is especially true if you'll be buying a home soon.
A high-yield savings account is often the best place to put your down payment. These accounts let you access your savings when you need it and offer a higher interest rate than a traditional checking or savings account. There's also no risk of losing your savings so long as your bank is FDIC insured.
You can also explore other risk-free investments, such as certificates of deposit (also known as "CDs"). If you decide to invest in a CD, shop around for the best CD rates to see how they compare to the interest paid by a high-yield savings account. However, be aware that CDs have strict withdrawal requirements. You may not be able to access your money immediately when you need it, unless you pay a penalty.
Step 4: Set a deadline for achieving your goal
Determining when you plan to purchase your home helps you decide how much to save each month to end up with your necessary down payment. For example:
- If you want to become a homeowner in two years and need a $50,000 down payment, you would need to save $1,923.08 per month
- If you want to become a homeowner in five years and need a $50,000 down payment, you would need to save $833.33 per month.
Step 5: Prioritize saving in your monthly budget
After you know how much you must save each month based on your timeline and down payment amount, create a budget that treats this amount as a must-pay bill.
If you must save $833.33 per month to buy a home in five years, work that amount into your budget. This could mean cutting discretionary spending to free up enough cash to meet your savings goal.
Step 6: Set up automatic contributions to your account
Once you've found room in your budget for saving, automate the process. Have your desired sum automatically withdrawn from your bank account on payday. Arrange to have it directly deposited into your down payment account, instead of into your checking account where you might be more likely to spend it.
RELATED: Check out The Ascent's Qapital Review. Qapital helps people save with savings automation for a variety of activities.
Step 7: Keep track of your progress
Monitor how your down payment fund is growing. Make sure you're staying on target with your monthly contributions.
This helps you stay motivated as you watch your money grow. It can also help you change course if you aren't saving enough. If you see too little progress, you may decide to make other spending cuts. Or you may consider picking up a side gig and saving the extra income.
As you approach your savings goal, it’s important to check in with a few of the best mortgage lenders to get a better idea of what your next steps will be to qualify for a home loan.
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